How to Convert Promissory Notes to Equity

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A promissory note is nothing more than a bond - a promise to pay a debt. Bond holders must be paid first before stockholders can receive a dividend, but bond owners enjoy no ownership in the company. However, If you own a bond from any stock-issuing company, you may be able to convert your bond, or promissory note, to an equity interest - ownership - in the company. Procedures vary depending on what kind of bond or promissory note you own.

Ask the debtor. If the business is having trouble making the debt payments, you may be able to convert all or part of the debt to equity by mutual agreement. The key will be agreeing on a fair market value for the company. This approach works well for promissory note holders and those who have made a personal or business loan to a small business owner.

File a lawsuit. If the debtor is in default, you may be able to sue to recover the debt. If the debtor simply does not have the cash to pay the debt, you may get a judgment for part ownership in the company. This can be problematic, however, if you wind up as business partners with someone who doesn't want to be partners with you.

Exercise a convertibility option. Many bonds, called "convertible bonds," can be converted to shares of stock at a prearranged price. If you have a convertible bond, contact the company's investor relations department to arrange the conversion.

Sell the bond and buy the stock with the proceeds. If both the bond and the stock are publicly traded, this is easily accomplished. Be sure to consider the effect of capital gains taxes on the purchase.